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How Much of a Company Must an Official Own Before There Is a Conflict of Interest? - A Story from Missouri

Friday, September 26th, 2008

Robert Wechsler

A difficult aspect of government ethics is the percentage of a company
that must be owned by a government official in order for there to be a
conflict of interest. The figure chosen for ethics codes is usually 5%.

The City Ethics Model Code uses the following language in defining
"outside employer or business":

(c) any entity located in the city or
which does business with the city, in which the official
or employee has an ownership interest, except a public corporation
in which the official or employee's ownership interest is the lesser of
(i) stock valued at less than $50,000 or (ii) five percent of the
outstanding stock.

This language could be improved (and advice is welcome). This
blog entry will look at a situation in Missouri involving a financial
aid program and a law that considers only percentage, not value of the stock.

According to an
article in today's Southeast Missourian, the state treasurer
insisted that state politicians and their immediate families have no
interest in any company that gets money through the financial aid
program. When an ethanol plant applied for the program, she rejected
its application because its investors included the governor's brother
and a state representative. The state legislature then changed the law
so that no application could be rejected unless a state politician or
family member owned at least 2% of the company. The brother and
representative did not own this much of the ethanol plant.

Story over? No. It turns out that another company owns 10% of the
ethanol plant, and neither the treasurer nor the ethanol plant could
find out who owned that company. Coincidentally, the day the treasurer
rejected the application (two years after it was filed) due to the lack
of this ownership information, the ownership information was sent to
the ethanol plant. It turns out that neither person owned enough of the
10% owner to bring his interest in the ethanol plant up to 2%.

It also turns out that the treasurer ran for governor as an
anti-ethanol candidate, losing to a pro-ethanol candidate, and that her
term is over in January. So the plant will almost certainly get its
financial aid (saving up to $6 million in interest payments).

The problem with raw percentages like this is that the value of the
interest matters too, which is why the City Ethics Model Code includes
a value amount, as well. If you own 5% of a local restaurant, that
might be worth $40,000. If you own 5% of a regional fast food
franchise, that might be worth $200,000. If you own 5% of a fast food
company, that might be worth $200 million. Percentages tell only part
of the story.

A government official who owns $50,000 worth of shares of a big
publicly traded fast food company means nothing to the company. It
won't even know who that person is. There would be no collusion between
the two. But that company means a lot to the official who owns the
shares, unless the official is very wealthy. And anyone who knows that
the official owns the shares will think he's biased when he votes to
give the fast food company a zoning exception, for example. There's no
reason why that official should have to sell the shares, but there is a
reason that official should recuse himself from voting on the zoning
exception.

The ethanol plant issue is more difficult. The state representative is
not in any way involved with giving out financial aid. He's not even
part of the executive branch, which makes this decision. If a company
were owned by a bunch of state representatives, each with a small
share, that would look bad. But just one does not seem to me to create
an appearance of impropriety.

But the governor's brother is a different story. Even though it's the
treasurer who is making the decision, the governor is the head of the
executive branch, and it would look bad if the treasurer used state
funds to benefit the governor's immediate family. Here I think the 2%
rule is not sufficient, because this ethanol plant is worth $82
million, so even a tiny 2% interest means a value of $1.6 million, and
the financial aid would help a 2% owner to the tune of $120,000. Those
are big numbers.

I think the state legislature should have included a value amount along
with the 2% figure, and that it should have treated legislative and
executive officials differently, although this might have looked as if
the legislature favored its members. Perhaps it should also have
considered the number of government investors along with the amount of
their interest, because this also creates an appearance of impropriety,
and several interested legislators would also mean that there would be
a number of legislators using their influence with the executive
branch, which would likely be far more than the influence of just one.